Intermediate Macroeconomics
Econ 121
Midterm II
Solutions
Short Answer.
Each numbered question is worth 5 points.
1)
In the Long Run, if the growth rate of the money supply over time is 5%, what is the
growth rate of the price level and of output?
LR:
0
ˆ
%
5
ˆ
=
=
Y
P
2)
In the Short Run, if the growth rate of the money supply over time is 5%, what is the
growth rate of the price level and of output?
SR:
%
5
ˆ
0
ˆ
=
=
Y
P
3)
How are the domestic price level, foreign price level, the nominal exchange rate, and
the real exchange rate related, mathematically?
In addition, define your exchange rates.
If the exchange rate is written in terms of Foreign Currency to one unit of Domestic
Currency, then
ε
=
⎟
⎟
⎠
⎞
⎜
⎜
⎝
⎛
Foreign
Domestic
P
P
e
, where
P
is the price level,
e
is the nominal exchange
rate, and
ε
is the real exchange rate.
4)
If the rate of inflation in the foreign country exceeds the rate of inflation in the
domestic country by 5% (holding all else constant), what will happen to the nominal
exchange rate and the real exchange rate?
%
5
ˆ
ˆ
0
ˆ
ˆ
ˆ
=
−
=
=
−
+
=
−
+
e
e
e
e
Domestic
Foreign
Foreign
Domestic
Foreign
Domestic
π
π
π
π
ε
π
π
5)
List 2 exogenous events that will lead to both a higher equilibrium level of output in
the Keynesian Cross as well as a rightward shift in the IS curve.
Examples are increases in autonomous consumption, increases in investment demand,
increases in government spending, decreases in taxes, and so on…
6)
List 2 exogenous events that will lead to both a lower prevailing interest rate in the
Money Market as well as a downward shift in the LM curve.

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